Item 1A.  Risk Factors



We caution you that our business and operations are subject to a number of risks and uncertainties.  The factors listed below are important factors that could cause our actual results to differ materially from our historical results and from projections in forward-looking statements contained in this report, in our other filings with the Securities and Exchange Commission, in our news releases and in oral statements by our representatives.  However, other factors that we do not anticipate or that we do not consider significant based on currently available information may also have an adverse effect on our results.



Events reported in the media, including social media, such as incidents involving food-borne illnesses , food contamination or food tampering, whether or not accurate, can cause damage to our reputation and rapidly affect sales and profitability.



Reports, whether true or not, of food-borne illnesses , food contamination   or food tampering have in the past severely injured the reputations of participants in the restaurant industry and could affect us in the future.  The potential for terrorism affecting our nation’s food supply also exists and, if such an event occurs, it could have a negative impact on our brand’s reputation and could severely hurt sales, revenues and profits.  Our ability to remain a trusted brand and increase sales and profits depends on our ability to manage the potential impact on Sonic of actual or reports of food safety issues.     Our food safety and quality assurance program minimize s   food safety risk s .  Nevertheless, these risks cannot be completely eliminated.  Any food safety incident attributed to our restaurants or within the food service industry, or any widespread negative publicity regarding our brand or the restaurant industry in general, could materially harm our brand, including sales and profitability.



The restaurant industry is highly competitive, and that competition could lower our revenues, margins and market share.



The restaurant industry is intensely competitive with respect to price, service, location, personnel, dietary trends, including nutritional content of quick-service foods, and quality of food and is often affected by changes in consumer tastes and preferences, economic conditions, population and traffic patterns.  We compete with international, regional and local restaurants, some of which operate more restaurants and have greater financial resources.  We compete primarily through the quality, price, variety and value of food products offered and our

distinctive service experience.   Other key competitive factors include the number and location of restaurants, speed of service, attractiveness of facilities, effectiveness of advertising and marketing programs and new product develo pment by us and our competitors.  We cannot ensure that we will compete successfully in the restaurant industry on these factors.  In addition, s ome of our competitors have substantially larger marketing budgets, which may provide them with a competitive advantage.  O ur system also competes within the QSR industry not only for customers but also for management and hourly employees, suitable real estate sites, and qualified franchisees.

Changing dietary preferences may cause consumers to avoid our products in favor of alternative foods.



The restaurant industry is affected by consumer preferences and perceptions.  Although we monitor these changing preferences and strive to adapt to meet changing consumer needs, the growth of our brand and, ultimately, system-wide sales depend on the sustained demand for our products.  If dietary preferences and perceptions cause consumers to avoid certain products offered by Sonic Drive-Ins in favor of different foods, demand for our products may be reduced and our business could be harmed.



Our earnings and business growth strategy depends in large part on the success of our franchisees, who exercise independent control of their businesses.



A significant percentage of restaurants are owned and operated by our franchisees.  A portion of our earnings comes from royalties, rents and other amounts paid by our franchisees.  Franchisees are independent businesses , and their employees are not our employees.  To help ensure compliance with brand standards w e provide appropriate training and support to, and monitor the operations of, our franchisees, but the quality of their drive-in operations may be diminished by any number of factors beyond our control.  Franchisees may not successfully operate drive-ins in a manner consistent with our high standards and requirements, and they may not invest in facilities and initiatives as necessary to compete successfully in the restaurant industry.  Franchisees also may fail to properly implement the requirements of the Patient Protection and Affordable Care Act (the “ACA”) enacted in 2010 or may respond to the ACA in a manner that is viewed negatively by employees or consumers.  In addition, franchisees may not hire and train qualified managers and other restaurant personnel and may not adequately plan for and train their own successors.  Consumers could perceive an operational shortcoming of a Franchise Drive-In as a reflection of the entire Sonic brand, thus damaging our reputation and potentially affecting revenues and profitability.



Changes in economic, market and other conditions could adversely affect Sonic and its franchisees, and thereby Sonic’s operating results.



The QSR industry is affected by changes in economic conditions, consumer tastes and preferences , spending patterns, demographic trends, consumer perceptions of food safety, weather, traffic patterns, the type, number and location of competing restaurants and the effects of war or terrorist activities and any governmental responses thereto.  We are also affected by these factors, and the concentration of approximately 35% of our d rive- i ns in Texas and Oklahoma further subjects us to risk particularly if these factors impact those states.  Factors such as interest rates, inflation, gasoline prices, energy costs, food and packaging costs, labor and benefit costs, legal claims and the availability of management and hourly employees also affect restaurant operations and administrative expenses for all d rive- i ns .  Economic conditions, including disruptions in the financial markets, interest rates and other government policies impacting land and construction costs and the cost and availability of borrowed funds, affect our ability and our franchisees’ ability to finance new restaurant development, improvements and additions to existing restaurants, and the acquisition of restaurants from, and sale of restaurants to, franchisees.  Inflation can cause increased food, labor and benefits costs and can increase our operating expenses.  As operating expenses increase, we recover increased costs by increasing menu prices, to the extent permitted by competition and the consumer environment, or by implementing alternative products or processes, or by implementing other cost reduction procedures.  We cannot ensure, however, that we will be able to recover increases in operating expenses in this manner.

Our financial results may fluctuate depending on various factors, many of which are beyond our control.



Our sales and operating results can vary from quarter to quarter and year to year depending on various factors, many of which are beyond our control.  Certain events and factors may directly and immediately decrease

demand for our products , and we cannot ensure that we will be able to respond to or address the events and factors sufficiently .  If customer demand decreases rapidly, our results of operations , including store-level sales and profits, would also decline precipitously.  These events and factors include:





Shortages or interruptions in the supply or delivery of perishable food products or rapid price increases could adversely affect our operating results.

We are dependent on frequent deliveries of perishable food products that meet certain specifications.  Shortages or interruptions in the supply of perishable food products may be caused by unanticipated demand, problems in production or distribution, acts of terrorism, financial or other difficulties of suppliers, disease or food-borne illnesses, droughts, inclement weather or other conditions.  We source large quantities of food and supplies, which can be subject to significant price fluctuations due to seasonal shifts, climate conditions, industry demand, energy costs, changes in international commodity markets and other factors.  These shortages or rapid price increases could adversely affect the availability, quality and cost of ingredients, which would likely lower revenues and reduce our profitability.



Failure to successfully implement our growth strategy could reduce, or reduce the growth of, our revenue and net income.



We plan to continue to increase the number of Sonic Drive-Ins, but may not be able to achieve our growth objectives, and new drive-ins may not be profitable or provide a sufficient return on investment .  The opening and success of drive-ins depend s on various factors, including:





If we are unable to open as many new drive-ins as planned, if the drive-ins are less profitable than anticipated or if we are otherwise unable to successfully implement our growth strategy, revenue and profitability may grow more slowly or even decrease.



Our outstanding and future leverage could have an effect on our operations.



The Company employs securitized financing in the form of fixed rate notes and variable rate notes.  As of August 31, 2016, we had outstanding two series of fixed rate notes :  1) $ 155.2  million in debt including accrued interest at an interest rate of 3.75%, with an anticipated repayment date of July 2020, and 2) $ 424.5  million in debt including accrued interest at an interest rate of 4.47%, with an anticipated repayment date of May 2023.  In addition, as of August 31, 2016, we had no outstanding balance under the variable rate notes.  Interest on the variable notes is based on the funding cost or index plus a base spread of 2.0%, per annum.  The variable rate notes have an anticipated repayment date of May 2021, with two one-year options available under certain conditions.  We believe our current leverage ratio is moderate.  We have historically generated net operating cash flows significantly in excess of our debt service requirements.  In the event that we default on our debt obligations, the following consequences could apply:





Sonic Drive-Ins are subject to health, employment, environmental and other government regulations, and failure to comply with existing or future government regulations could expose us to litigation, damage to our reputation and lower profits.



Sonic and its franchisees are subject to various federal, state and local laws affecting their businesses.  The successful development and operation of restaurants depends to a significant extent on the selection and acquisition of suitable sites, which are subject to zoning, land use (including the placement of drive-thru windows), environmental (including litter), traffic and other regulations.  More stringent requirements of local and state governmental bodies with respect to zoning, land use and environmental factors could delay, prevent or make cost prohibitive the continuing operations of an existing restaurant or the development of new restaurants in particular locations.  Restaurant operations are also subject to licensing and regulation by state and local departments relating to health, food preparation, sanitation and safety standards, federal and state labor and immigration laws (including applicable minimum wage requirements, overtime, working and safety conditions and work authorization requirements), federal and state laws prohibiting discrimination and other laws regulating the design and operation of facilities, such as the Americans with Disabilities Act.  If we fail to comply with any of these laws, we may be subject to governmental action or litigation, and our reputation could be accordingly harmed.  Injury to our reputation would, in turn, likely reduce revenues and profits.



In recent years, there has been an increased legislative, regulatory and consumer focus on nutrition and advertising practices in the food industry, particularly among restaurants.  As a result, we have and will become subject to regulatory initiatives in the area of nutritional content, disclosure and advertising, such as requirements to provide information about the nutritional content of our food products, which could increase expenses.  The operation of our franchise system is also subject to franchise laws and regulations enacted by a number of states and rules promulgated by the U.S. Federal Trade Commission.  Any future legislation or legal changes regarding franchise relationships may negatively affect our operations, particularly our relationship with our franchisees and may increase our potential liability for franchisee practices and our costs.  Failure to comply with new or existing franchise laws and regulations in any jurisdiction or to obtain required government approvals could result in a ban or temporary suspension on future franchise sales.  Changes in applicable accounting rules imposed by governmental regulators or private governing bodies could also affect our reported results of operations.



We are subject to the Fair Labor Standards Act, which governs such matters as minimum wage, overtime and other working conditions, along with the Americans with Disabilities Act, various family leave mandates and a

variety of other laws enacted, or rules and regulations promulgated, by federal, state and local governmental authorities that govern these and other employment matters.  We have experienced and expect further increases in payroll expenses as a result of government-mandated increases in the minimum wage and future increases may be material .  Enactment and enforcement of various federal, state and local laws, rules and regulations on immigration and labor organizations may adversely impact the availability and costs of labor for our restaurants in a particular area or across the United States.  In addition, our vendors may be affected by higher minimum wage standards or availability of labor, which may increase the price of goods and services they supply to us. 



We have implemented various aspects of the ACA in our business .   There are no assurances that a combination of cost management and price increases can accommodate all of the costs associated with compliance.  



Litigation from customers, franchisees, employees and others could harm our reputation and impact operating results.



Our legal and regulatory environment exposes us to complex compliance and litigation risk.  Claims of illness or injury relating to food content, food quality or food handling are common in the QSR industry , as are intellectual property claims (including often aggressive or opportunistic attempts to enforce patents used in information technology systems).  In addition, class action lawsuits have been filed, and may continue to be filed, against various QSRs alleging, among other things, that QSRs have failed to disclose the health risks associated with foods we serve and that QSR marketing practices have encouraged obesity and other health issues.  There are also litigation and compliance risks and costs associated with privacy, consumer data protection and similar laws, particularly as they apply to children, as well as laws related to the collection and use of consumer, employee and franchisee data.  We additionally may be subject to employee, franchisee and other claims in the future based on, among other things, discrimination, harassment, wrongful termination and wage, rest break and meal break issues, including those relating to overtime compensation.  Litigation, as well as regulatory and legal changes, involving our relationship with our franchisees and the legal distinction between our franchisees and us for employment law purposes, if determined adversely, could increase costs, negatively impact the business prospects of our franchisees and subject us to incremental liability for their actions.  In addition to decreasing our sales and profitability and diverting management resources, adverse publicity or a substantial judgment against us could negatively impact our reputation, hindering the ability to attract and retain qualified franchisees and grow the business.



We may not be able to adequately protect our intellectual property, which could decrease the value of our brand and products.



The success of our business depends on the continued ability to use existing trademarks, service marks and other components of our brand in order to increase brand awareness and further develop branded products.  All of the steps we have taken to protect our intellectual property may not be adequate. 



Our reputation and business could be materially harmed as a result of security   breaches.  



Security breaches involving our systems or those of our franchisees or third party providers may occur, such as unauthorized access, denial of service, computer viruses and other disruptive problems caused by hackers and other bad actors. Our technology systems contain personal, financial and other information that is entrusted to us by our customers and employees as well as financial, proprietary and other confidential information related to our business. An actual or alleged security breach could result in system disruptions, shutdowns, theft or unauthorized disclosure of confidential information. The occurrence of any of these incidents could result in adverse publicity, loss of consumer confidence, increased costs, reduced sales and profits and criminal penalties or civil liabilities.



Unreliable or inefficient drive-in tech nology, lack of support for drive-in technology and failure to successfully implement technology initiatives could adversely impact operating results.



We rely on proprietary and commercially available technologies at our drive-ins, including point-of-sale , digital point-of-purchase and payment card systems.  We rely on this technology not only to efficiently operate our drive-ins but also to drive sales growth and margin improvement.  Our strategic technology initiatives may not be timely or effectively implemented or adequately resourced .  Certain technology networks and systems may also be unreliable or inefficient, and our technology vendors may limit or terminate product support and maintenance or be

unwilling or unable to provide products and services needed to execute our technology initiatives .  Additionally, replacement parts and support and maintenance skills may become scarce, cost prohibitive or non-existent.  Any such risks could disrupt drive-in operations, render us unable to achieve desired strategic results and impact sales and profitability.



Ownership and leasing of significant amounts of real estate exposes us to possible liabilities and losses.



We own or lease the land and building for all Company Drive-Ins.  Accordingly, we are subject to all of the risks associated with owning and leasing real estate.  In particular, the value of our assets could decrease and our costs could increase because of changes in the investment climate for real estate, demographic trends and supply or demand for the use of our drive-ins, which may result from competition from similar restaurants in the area, as well as liability for environmental conditions.  We generally cannot cancel the leases, so if an existing or future Sonic Drive-In is not profitable, and we decide to close it, we may nonetheless be committed to perform our obligations under the applicable lease including, among other things, paying rent for the balance of the lease term.  In addition, as each of the leases expires, we may fail to negotiate renewals, either on commercially acceptable terms or at all, which could cause us to close drive-ins in desirable locations.



Catastrophic events may disrupt our business.



Unforeseen events, or the prospect of such events, including war, terrorism and other domestic or international conflicts, public health issues , including health epidemics or pandemics, and natural disasters such as hurricanes, earthquakes or other adverse weather and climate conditions, whether occurring in the United States or abroad, could disrupt our operations, disrupt the operations of franchisees, suppliers or customers, or result in political or economic instability.  These events could reduce demand for our products or make it difficult or impossible to receive products from suppliers.